Neptune Orient Lines Ltd - Buy the 3Q rebound (CIMB)

TRADING BUY Upgraded

S$1.17 Target: S$1.40

Mkt.Cap: S$3,022m/US$2,493m

Container Shipping

• Above; upgrade to TRADING BUY. NOL's 2Q core net loss of US$57m was lower than our US$70m loss forecast due to last year’s high-rate transpacific contracts. Cumulative loss of US$68m is 35% of our full-year forecast, which is in line with expectations for a weaker 2H. We upgrade from Trading Sell to TRADING BUY because of the sharp fall in the share price which touched our previous target of S$1.14 (0.75x P/BV). We also raise our P/BV multiple to 1x and our target price to S$1.40 because share prices may recover as ship utilisation and rates improve in what is expected to be a reasonably good 3Q. Nevertheless, sector fundamentals may remain difficult and as such, we keep our loss forecast for 2011 largely unchanged but reduce 2012-13 estimates by 29-49% as our previous rate assumptions look too bullish.

• Weakness in transpacific (TP) loads and Asia-Europe (AE) losses hurt 2Q. TP trade was weaker-than-expected in 2Q, with volumes down 8% yoy because the heavy restocking by retailers last year gave way to more caution this year. As a result, headhaul TP utilisation fell from 90% to just 81%, making it more difficult for APL to cover operating costs and especially its higher bunker costs. Although AE volumes were up 10% yoy, average rates fell 19% yoy resulting in losses that overwhelmed the narrower profits from the TP trade. As a result, APL's positive EBIT of US$105m in 2Q10 slipped into a loss of US$53m in 2Q11. Although intra-Asia remained profitable, with 2Q volume up 21% and rates down a marginal 5% yoy, it was not enough to keep APL in the black.

• A good peak season underway? NOL said at its results briefing to analysts that TP volumes have picked up noticeably over the past two weeks, particularly from north China, and that it was confident of imposing some level of peak-season surcharges (PSS) from 15 August. The strength and duration of the peak season is unclear at this point, but NOL noted that as retailers in the US actively reduced their inventory levels in 2Q, inventory-to-sales ratios were looking low for this time of year. This suggests that if upcoming retail demand turns out to be reasonably good, there could be a sharp recovery in shipping demand over the next few months. We agree with NOL and recommend that investors take advantage of the sharp decline in NOL's share price to lock in a good entry point for the rebound in 3Q.